September 20, 2014
Government seeks to avoid ‘acceleration’ on US$29 billion
CFK administration needs to clinch support of exchange bondholders in legal standoff
NEW YORK — A rush to contain the fallout from the country’s default is under way, as markets continue to bet that the beleaguered sovereign will ultimately be able to repay exchange bondholders in full. But the way markets react from here depends on how the government manages expectations about future payments and its ability to avoid a mass acceleration clause on some US$29 billion in cross-defaulted bonds.
“Our central worry moving forward is related to the acceleration provision included in exchange bondholder contracts,” said Alejo Czerwonko, an emerging markets economist at UBS Wealth Management. “If 25 percent of holders of a series of bonds can demand immediate payment on principal and interest, this makes exiting default more complicated.”
Argentina now faces the tricky task of keeping exchange bondholders on its side while finding a way to cut a deal with holdout investors and put an end to its decade-long legal battle with what it calls the “vulture funds.”
Investors are banking on such a scenario after international banks joined the effort to buy up Argentine defaulted debt from the sovereign’s holdout creditors and resolve the messy default stand-off.
Argentina’s deputy economy minister has said that the bank holding the funds to pay the exchange bondholders in New York must make the payments.
“The idea of international banks buying the debt from the holdouts is the only option on the table now, but I do see a very high bar to overcome in terms of execution,” said Carlos Abadi, president and CEO of ACGM, a boutique investment firm specializing in special situations.
Sources said the local banks were also still in the running for the roughly US$1.6 billion purchase, which would account for par value of the bonds plus accrued interest. JP Morgan, Citigroup and HSBC were reported as potential suitors for the holdout bonds. A source at JP Morgan said the report should be taken with “a grain of salt,” but did not rule out that conversations were taking place.
“Any foreign bank going in to buy this debt would be doing so as a pure business transaction,” a managing director at another bank said.
By having a third party to make the holdouts whole, Argentina might get around the so-called RUFO clause, which it has repeatedly said exposes it to billions of dollars in potential lawsuits if it obeys the US court order to pay litigant investors in full.
The clause, which stipulates that the sovereign must offer the same terms to exchange bondholders as it does to holdouts, expires at the end of 2014.
For now, many investors view Argentina’s default as temporary, believing that a deal will be cut with holdouts either through private banks or directly once the RUFO clause expires.
Assuming, as many do, that the holdout investors have taken out default protection via credit default swaps, the profits from such positions — assuming a credit event is declared, as is likely — may convince them to accept payments of less than full value for their bonds.
Such assumptions are keeping a floor under bond prices and making holders think twice before accelerating bond payments.
The prospectuses on exchange bonds give Argentina 60 days to remedy the default by getting holders of the debt to agree to a waiver on the default or rescind acceleration, say analysts.
The latter option may just be possible as investors continue to give the government the benefit of the doubt.
“It doesn’t make any sense for bondholders to accelerate,” said Patrick Esteruelas, sovereign analyst at Emso Partners. “You would undermine Argentina’s ability to pay, sabotage a deal and renounce the upside that could result from a settlement with holdouts. You’re cutting off your nose to spite your face.”
John Baur, a portfolio manager at Eaton Vance, has a similar view: “The government has been very clear that they want to continue servicing these bonds. And if bondholders accelerate, that could change the government’s attitude toward them.”
Of all the exchange bond creditors, holders of par bonds have the greatest incentive to accelerate. The low 50s dollar price in the secondary market may make the upside of receiving full payment all that more attractive against a coupon of just 2.5 percent. The opposite holds true for the discounts, which are still trading in the 80s.
“Given that foreign law pars constitute 50.1% of total foreign law exchange bonds, a request by even half of par bondholders may lead to acceleration on all of the series,” said HSBC in a report.
However, momentum towards acceleration may be influenced by the changing composition of Argentine bondholders over the past few months as real-money accounts sold to distressed players after the Supreme Court rejected the country’s appeal against holdouts’ favourable pari passu ruling.
“The fact that there is a significant amount of special situation funds on the restructured debt means the likelihood that they will accelerate is pretty high,” said an official at a real-money account in New York. “This is complicated by who’s long or short on the CDS, and what is deliverable under the CDS, but my guess is that they will accelerate. They are much more open to litigation.”
That threat of acceleration makes the need to arrive at a solution all the more urgent. And barring an agreement to rescind acceleration, a deal with the holdouts may be Argentina’s cheapest option, some analysts say.
The total cost of settling with all holdouts is around US$15 billion, which is less than three percent of GDP, and cheaper than acceleration on about US$29 billion in outstanding exchange debt, said Czerwonko.
“Argentina would have to make a large lump sum payment and it can’t do that via international reserves, which are close to US$30 billion,” he said.
Demand to BoNY
Deputy Economy Minister Emmanuel Álvarez Agis renewed the government’s criticism of “special master” Daniel Pollack and questioned the lawyer’s “biased” position in the US$1.3 billion dispute. At the same time, Álvarez Agis said the government demanded the Bank of New York to “give out the funds” for the bondholders.
“It is a difficult negotiation above all when the mediator is on the other side. The only thing Pollack is missing doing is wearing vultures’ team shirt, shooting to the centre and heading the ball,” the Deputy Economy Minister said. “We demanded the Bank of New York to give out the funds. Even Judge Griesa acknowledged the funds are not his property but the bondholders.’”
Herald with Reuters